Revenue Distribution and Local Impact

4. What is the ability of the economy to absorb investment

Using natural resource revenues to invest in the drivers of economic growth is sensible, but it has limitations. These limitations are referred to as absorptive capacity, or the ability of the economy to turn revenue into profitable investment projects.

The latter can be constrained if public investment requires substantial inputs such as labour and private capital. Usually these cannot be readily supplied, for example because they cannot easily be imported (which would require substantial migration). Simply put, to invest in education requires more than buildings; it also requires training more teachers. Similarly, building a road requires construction that may drive up prices for concrete and other materials and it may require the training or import of skilled engineers. Some inputs can be more readily supplied than others, but if the supply on such inputs is too severely constrained, then competition arises with the private sector for these inputs, which drives up prices and reduces the profitability of the investment project and of private enterprises. Effectively, this suggests that public investment should not increase suddenly, but should be spread across time such that the private sector can adjust.

Another constraint may be the civil service itself. Implementation of project decisions requires a suitable level of government capacity at all levels in terms of the number and quality of civil servants. They should be able to compare and value different investment opportunities, by designing cost-benefit analyses, in which both direct impact and indirect impacts of projects can be quantified. Quantifying these is not easy but improved methodologies have become available.

Implementation of project decisions also requires a suitable level of government capacity at all levels in terms of the number and quality of civil servants. This is required to ensure that investment projects can be monitored, and corruption and waste can be avoided.